Is your child working a summer job? If so, check out these basic financial planning tips:
- If you child’s wages will only be a few thousand dollars this summer, most likely he or she will not be subject to federal income taxes. The standard deduction for single filers in 2021 is $12,550. Earned income less than this base amount is not subject to federal income taxes. Thus, if your child expects to earn less than the standard deduction this year, does not have significant investment income, and owed no taxes in the prior year, then write “Exempt” in the space under line 4(c) on the W-4 Employee’s Withholding Certificate. If claiming “Exempt”, then no federal income taxes will be withheld from your child’s paycheck – leaving more money in their paycheck each week.
- Having earned income will allow your child to fund a Roth IRA. The maximum amount allowed to be contributed to a Roth IRA in a year is the lesser of your child’s wages (earned income) or $6,000. The primary benefit of the Roth IRA is TAX-FREE growth of the investment being held in this IRA! Funding a Roth IRA at an early age will not only benefit your child with tax free growth over a longer time horizon until retirement age; but will also help to teach your child the importance of saving a portion of their income at a young age and developing good financial planning habits. Additionally, the Roth IRA contribution can be funded by parents (or grandparents) as a gift to your child; but must be funded into an IRA under your child’s name.
- Don’t pass up on a great opportunity to teach your child budgeting and financial management skills. Open a savings account at your bank for your child that will be funded each week with a set percentage or set dollar amount of each paycheck received. Teaching the importance of building a small “nest egg” to be used for college or other personal expenses at a later date (books for school, a first car, entertainment, etc.) will teach your child the value and responsibility of earning a regular paycheck and saving a portion for future financial needs. Perhaps consider adding a “parent matching component” to entice your child to save more – for every dollar they add to their savings account, you add 50 cents to their savings account as well.
- Finally, if there are taxes withheld from your child’s W-2, he or she will want to file a tax return as most likely the withheld taxes will be refunded back to your child. The IRS offers free e-filing on their website for taxpayers with an income less than $72,000. The IRS link to free e-filing is found at https://www.irs.gov/filing/free-file-do-your-federal-taxes-for-free